In a hip loft, in the hippest borough of the hippest city in America, a hundred or so energetic young people wearing vintage dresses, modded Nikes, and skinny jeans turn to face a makeshift stage. This is Greenpoint, Brooklyn, where a selection of creative types have congregated on a Friday night in January to enjoy free beer and celebrate the opening of the neighborhood's newest clothing store, Ruffeo Hearts Lil Snotty.

As its outré name would suggest, the store aims for a stratospheric level of cool. There are spandex body suits with wild color blocking, quadruple-extra-large hoodies, and a line of men's underwear called "manties"—all handmade in Brooklyn, partly with recycled materials. The announcer quiets the crowd with a barrage of obscenities before introducing the founders, Sarah Jones and Mackswell Sherman.

Sherman emerges, beer in hand, wearing a baseball hat cocked sideways, a sport coat, and a pair of silver superhero tights. Jones, clad in an orange cardigan and a studded green shirt, looks almost square by comparison. They grab a pair of shears and snap a ribbon. Balloons drop from the ceiling, the band gets going, and models show off the new line while sipping on cans of Bud. Yes, the models are drinking, too.

Four years ago, Jones and Sherman were Dumpster-diving college students at Evergreen State, a bastion of hippie higher learning in Olympia, Washington. They foraged for fabrics outside clothing factories and hawked T-shirts on the streets of Seattle. Today, they are comers on New York's indie fashion scene. Their clothing has appeared in several fashion magazines and blogs, on the person of the pop star Kelis, and on CBS Sunday Morning. Jones and Sherman are still small scale—most months they have just a few hundred dollars left after paying their business expenses and their rent—but their work is in a growing collection of independent boutiques, and they no longer have to sew in their bedrooms. "We're hungry but happy," says Sherman, bobbing his head to the music.

As I watched it all unfold, I wondered how a breakthrough like this was possible. A few days later, after the beer cans had been cleaned up and the partners were back at their sewing machines, I came back to the store and asked them.

The answer was simple: Etsy, the massive online marketplace for handmade and vintage goods. In the fall of 2007, some hoodies and other items made by Jones and Sherman landed on Etsy's homepage; their clothing now generates sales of $1,000 to $2,000 a month. That may not sound like much, but the income allowed the partners, neither of whom has formal training, to bootstrap their business as they taught themselves how to design, sew, and sell.

Being on Etsy also exposed their work to independent retailers and fashion writers, who regularly turn to the site to suss out new styles. And it was Etsy's mercurial founder, Rob Kalin, who contacted the pair out of the blue, inviting them to leave Seattle and come to New York, where he would give them a free workspace. "We probably wouldn't be here without Etsy," Sherman says. "That rocketed us."

Kalin, 30, is determined that Etsy vendors such as Jones and Sherman become more rule than exception. "We want to allow the makers of the world to claim authorship for what they're making," he says. "This is what Etsy stands for: The little guy being able to organize a better marketplace." Kalin, who is prone to such pronouncements, is talking about the small-time artisans who peddle their wares on Etsy. But he just as easily could be describing himself. After all, in 2005, when he founded the site with two college friends in a rundown loft in Brooklyn, Kalin was a marginally employed 24-year-old classics major with no money, no connections, and no knowledge of computer programming. Etsy was as much a DIY affair as Ruffeo Hearts Lil Snotty.

Today, Kalin is socially awkward, reticent, and given to eccentricities that can seem downright crazy. "I speak to people in the business world and the technology world, but I don't admire them," he says, pointing an 8-inch combat knife at me for emphasis. "I admire the makers of the world." This is not empty rhetoric: Kalin makes his own furniture and his own underwear. He also thinks that trying to maximize shareholder value is "ridiculous," adding, "I couldn't run a company where you had to use that as an excuse for why it was doing things."

And yet somehow this same Rob Kalin sits atop a fast-growing company that is the toast of the business elite he purports to despise. Etsy has 165 employees and revenue of roughly $40 million. It has raised $50 million from some of the tech world's most prominent venture capitalists and is thought by many to be a prime candidate for an IPO. Kalin has poached executives from the likes of Yahoo, Google, and eBay, and he has been honored as a "Technology Pioneer" by the grandees at the World Economic Forum's annual meeting in Davos. "Rob is an accidental businessperson," says Fred Wilson, the first VC who invested in Twitter and an early investor in Etsy. "He's actually a pretty good businessperson, but he thinks of himself as an artist."

For a behind-the-scenes look at our big Etsy photo shoot and to learn more about Etsy power sellers, watch this video, by Andrew Maclean:

If Kalin seems like a knot of contradictions, so does the company he created. Etsy promises to bring entrepreneurial success through arts and crafts. "Anyone here—if you're in school or out of school, or if you're any age—can start a business from home," he told the audience of The Martha Stewart Show in early 2008. This message—with its echoes of the "eBay millionaire" dream of years ago—has been extremely effective as a marketing strategy, attracting some 400,000 tiny companies to Etsy and helping create one of the largest, most chaotic flea markets the world has ever known. In 2010, Etsy sellers moved $314 million worth of merchandise—cuff links made from 19th-century shotgun shells ($50), knives forged by a master blacksmith in Albuquerque ($150), sweaters knit by a grandmother in Portugal ($225)—a 74 percent increase over the previous year. There is so much weird stuff on Etsy, in fact, that it has spawned a fan site, Regretsy.com (tag line: "Where DIY meets WTF").

Three hundred and fourteen million dollars is an impressive sum, but it amounts to about $785 per seller after commissions—and before taxes. It seems fair to assume, using statistics the company has released, that there are fewer than 1,000 sellers who make $30,000 a year or more, and a mere handful who make more than $100,000. As one of the site's top sellers wrote in a blog post in 2009: "Your odds of making $10,000 per year [on Etsy] are better than winning $10,000 through the Powerball, though not by a ton." The only Etsy millionaires, it turns out, are Etsy shareholders.

Etsy requires that all new products listed on the site be made by the people selling them—the use of mass production, that wonderful innovation of modern capitalism, is verboten. "Etsy has made it possible for a lot of small businesses to get off the ground," says Dale Dougherty, co-founder of O'Reilly Media and the publisher of Make magazine, which covers the do-it-yourself economy. "But even the most successful crafters run up against the limits of their own labor. Handmade can be a limited idea."

In other words, the very qualities that make Etsy so attractive to new sellers put the most successful Etsy sellers in an awkward position: They must stay small or abandon Etsy. For Kalin and his investors, the questions are even tougher: Can a site dedicated to DIY scale? Or is Etsy, despite Kalin's ambition and grandiosity, just a small idea?

In January 2008, two and a half years after founding Etsy, Kalin posted a video on the company's blog of himself reading a children's book. The book, Swimmy, by Leo Lionni, which Kalin read with the careful intonation of an elementary school teacher, is about a small fish that bands together with other fish to scare away a hungry tuna. "We do not want Etsy itself to be a big tuna fish," he wrote. "Those tuna are the big companies that all us small businesses are teaming up against."

Us small businesses. It was a strange formulation, given that the occasion for the reading was Etsy's acceptance of a $27 million investment led by Jim Breyer, a venture capitalist with Accel Partners who sits on the boards of Facebook, Dell, and, to the consternation of the Etsy faithful, Walmart. At the time, the company had monthly sales of about $4.3 million and monthly Web traffic of about 230 million page views. "This means that we now have the resources...to enable so many more people to make a living making things," Kalin wrote. "Our goal is for Etsy to be an independent, publicly traded company, focused on all things handmade."

If the connection to Walmart caused some Etsy sellers to cry hypocrisy, the investment was nonetheless a triumph for Etsy and for Kalin, who barely graduated from high school and who essentially conned his way into a college education. Kalin grew up in Boston (his father was a carpenter, and his mother was a teacher), and he spent his youth rebelling in ways large and small. With a 1.7 high school grade point average and unable to get admitted to any degree-granting institution, Kalin faked an MIT student ID and then used a letter of recommendation from a professor he met there to get himself admitted to NYU.

Etsy itself grew out of a freelance design project that Kalin and two friends, Haim Schoppik and Chris Maguire, undertook for GetCrafty.com, an online bulletin board for crafters run by the wife of an NYU professor. While working on GetCrafty, Kalin noticed two things: first, that there were a lot of crafters on the Internet, and, second, that many of them hated eBay. Over the years, the auction giant had raised prices substantially, making small-scale selling economically unfeasible. (Listing a $25 item on the site costs 50 cents plus a commission of 8 percent to 15 percent, and maintaining the most basic storefront costs $16 a month.) Over the course of two months, with Kalin designing and Maguire and Schoppik writing code, the trio built a modest e-commerce tool that was designed as a cheaper alternative to eBay and aimed at sellers of handmade goods. Each merchant would get a free online storefront and would pay just 10 cents for a four-month listing, plus a 3.5 percent commission. (Today, the listing fee is 20 cents.)

By the time of the venture capital investment, Etsy's rise had been well documented in the press (including Inc.). But such success obscured tensions that had been simmering within the company for years. "It was chaos—there was no management," says Fred Wilson. "It was all creative energy of the founders and just a bunch of people hanging around that, trying to keep things going."

This worked when the company was small, but by 2008, Etsy had grown so large that Kalin's creativity was straining his relationship with the rest of the company. As Maguire and Schoppik worked day and night trying to keep the website from crashing, Kalin was spending his time dreaming up new features. One day, Maguire recalls, Kalin proposed creating a system whereby sellers could broadcast live video feeds from their workshops. Another day, he was pitching his co-founders on creating a modern-day version of guilds. "There would be a brand-new idea every day," Maguire says. "Usually it'd be something that didn't even make sense. How are you supposed to teach blacksmithing over the Internet?" By the end of 2008, Maguire and Schoppik left the company. Working at Etsy, he says, "was like being in an abusive relationship."

The result was a leadership crisis as employees, investors, Etsy sellers, and even Kalin himself began to wonder if he was the best person to lead the company. "The general theme at the time was, Let's find people who've done this stuff before," Kalin says. "We needed to build a search engine, so we said, Let's find someone who has implemented a search engine. We need to manage a growing engineering team, so we said, Let's find someone who has managed a growing engineering team." He began to think that maybe it was time to find an experienced CEO. "I'm always skeptical of whether I'm the best CEO for the company," he says.

In June 2008, Kalin demoted himself to chief creative officer, and the company's COO, Maria Thomas, became CEO. A month later, he left daily operations entirely. "I'm a hands-on guy," Kalin says. "I need to be building things to feel like I'm making a meaningful contribution, and I didn't want to sit around as some kind of wall decoration-slash-mascot for culture."

Kalin spent the next 12 months focused entirely on solving the problems of Etsy sellers. He founded a nonprofit called Parachutes and invited half a dozen Etsy companies, including Ruffeo Hearts Lil Snotty, into his personal workshop. He offered them free office space and led weekly workshops on how to build a business. "There's this really interesting shift that happens when you're running an Etsy business, where you have to change your approach from 'I make clothing' to 'I'm making a living making a business that makes clothing,' " Kalin says. "A lot of people either can't or don't want to make the shift, because it means seeing things in a different light."

It wasn't nearly that simple. Erasing mass production makes for great marketing, but it isn't a particularly good business plan for clothing designers or jewelry makers. Of the sellers who enrolled in Parachutes, Jones and Sherman were the only ones who didn't return home when the program ended at the end of 2010.

Tellingly, they have succeeded, in part by distancing themselves from Kalin's most radical ideals. "I admire Rob and his thought process," Sherman says. "But we're transitioning away from being an Etsy business." He told me that if Ruffeo Hearts Lil Snotty gets substantial orders from a fashion buyer, it will probably use a factory, which will effectively disqualify it from Etsy, given that the company's rules require that Etsy members personally make what they sell. "The irony is that if we ever became successful, we won't be allowed to sell on Etsy," he says.

On the other hand, some merchants who have tried to stay within Etsy's framework have suffered for it, as I learned when I called Ryan McAbery, the founder of Littleput Books. McAbery was the first entrepreneur featured in a series of blog posts that Etsy began running in 2007 called "Quit Your Day Job." "You've seen those big sellers on Etsy who seem to be making sales left and right," the introduction to the series read. "You have to wonder how they've made it to where they are: Can they actually be FOR REAL? What's their recipe for success?"

In 2006, McAbery, who had been selling journals made out of Scrabble boards at craft fairs in Portland, Oregon, started trying to figure out what to do with all her unused tiles. She glued colorful paper on the back of them and turned them into necklaces, listing them for $10 each. Over the next few months, she made improvements: a more attractive package, better photographs, and a higher price of $15. By the 2007 holiday season, she had four part-time employees and was selling more than 100 necklaces a day.

That year, McAbery sold $96,000 worth of merchandise, but she was miserable. "I was working 100 hours a week," she says. "There was a lot of pressure." She had chosen the life of a crafter because she wanted to be close to her 5-year-old son, but she felt as if she hadn't spent any meaningful time with him in months. The rational thing would have been to license her necklaces to a larger company or outsource the work, but neither occurred to McAbery. So, along with her regular run of $15 necklaces, she listed her business itself on Etsy. The sale price for one of the site's most successful businesses? Just $7,000.

McAbery's problems were related in part to her inexperience but also to the limitations inherent in Etsy's vision of commerce. The vast majority of Etsy sellers are hobbyists who aren't in it for the money and, consequently, end up charging rates for their labor that would make even a Walmart buyer blush. I met seller after seller who told me, with a kind of resignation, that they figured to be paying themselves minimum wage or worse. For instance, Diana Chin of Red Lotus Designz told me glowingly about how materials for her $15 crocheted dolls cost only $4, leaving $11 in profit. When I asked her how long it took to make one, she said, matter-of-factly, "Two or three hours." Working for a few bucks an hour is fine if you like crocheting, but it hurts full-time sellers by creating the equivalent of a developing economy on the Internet.

Another source of price pressure: competition from actual developing economies. As Etsy has expanded internationally, adding foreign languages and currencies, so have complaints about low-cost knockoffs. In 2009, Aki Takada, the founder of New York City-based Oktak, made $45,000 selling handmade cotton coin purses for $22 to $45 each. The following year, a seller from Asia listed a similar purse for $12, and Takada's sales fell 40 percent. "I kind of had a monopoly before," she says. "But every year, tens of thousands of new sellers join who can price differently and can copy my style."

Kalin says many of the complaints about low-cost competition come from a minority of very vocal Etsy sellers, which is undoubtedly true. And the low prices offered by foreign sellers and hobbyists are part of what makes Etsy so appealing to consumers. But the complaints also raise uncomfortable questions about Etsy's ability to deliver on its marketing promises.

A few months after she had let her own company go for a song, McAbery created a new line of products—photos printed on blocks of wood—but rather than sell them exclusively on Etsy, she went back to the craft show circuit. "I believe that Rob has everybody's best interests at heart," she says. "But there are too many of us looking to make extra money." Then she asks me a favor. "If you know any entrepreneurs who want a designer, let me know," she says with a sheepish chuckle. "My real goal is a paycheck." So much for "Quit Your Day Job."

The continued struggles of Etsy sellers caused Kalin to turn his attentions back to Etsy, where he still had a board seat and a substantial equity stake. In late 2009, he urged the board to dismiss Thomas and reinstate him as CEO. He argued that Etsy had strayed from its core values in pursuit of growth and that it needed to focus more on the success of its sellers, its customer service, and improvements to its website. The board voted in his favor, and, at an all-hands meeting in late December, Kalin announced his return to Etsy.

"I'm here to restore a sense of wonder, a sense of poetry, and a sense of foolishness to Etsy," he told his staff. He recited a Yeats poem in a thick Irish accent, smashed a coffee mug, and then began reading from the Cluetrain Manifesto, a decade-old Internet marketing treatise about the power of communities. "The message was that things were going to get messier but that that was OK," says Wilson. "It was very powerful."

Etsy had grown impressively under Thomas—gross merchandise sales doubled, and the company reached profitability in 2009—but the company had not addressed many of the persistent complaints from sellers about customer support and the performance of the site.

Kalin doubled Etsy's staff, adding more engineers and customer service reps. This year, the company will hire several dozen more reps to staff a call center in an old cannonball factory in Hudson, New York, not far from the country house in which Kalin still does much of the design work for Etsy's website. The goal is to treat Etsy sellers with the same level of attention that Zappos lavishes on shoe buyers.

Meanwhile, the site has been adding features at a furious pace. In December, Etsy unveiled social networking functions similar to those of Facebook that allow users to make friends with other Etsy members and keep track of their friends' favorite shops and purchases. There's also the new gift service, which looks at the Facebook profiles of your friends and suggests items they might like, and something called Taste Test, which asks you to rate a smattering of random items and then suggests things to buy. The results aren't perfect—on a recent visit, Etsy recommended that I buy a bizarre wooden pineapple tray for $7—but the tool is a novel way to find products that you might not otherwise see. You are invited, of course, to share the recommendations with your friends on Facebook and Twitter and with other Etsy members.

Kalin hopes that these moves will make it easier for buyers to discover new products, but he also sees the new emphasis on social networking as part of a deepening of Etsy's mission that goes beyond buying and selling. "On Facebook, you're not going to connect with people who have different religious views, different political views, different tastes," says Kalin. "Etsy adds a whole other layer on top of that: If a person who has different religious or political views is making me a custom sweater, I'm going to have this long conversation that I would have never had. To me, that's a beautiful thing."

As I was interviewing people for this article, I repeatedly heard that Kalin could be dangerous at close range. "He can be a very difficult person," says Matt Stinchcomb, the head of Etsy's European operations and a longtime friend. "I don't mean that in a negative way. He's just like a lot of really smart people who don't want to suffer the rest of us." In my own experience, I found Kalin infuriating, inscrutable, and yet impossible to hate. You can't help admiring his passion, and the way he is determined to put his customers front and center.

This is the effect that Etsy has on just about everyone. Yes, a lot of stuff on Etsy is junk; but it's strangely compelling junk. (For proof, head to the Sold section of Regretsy.com and check out the Chicken Poncho and the Goat Coat, which went for $15 and $29, respectively.) Yes, Etsy's marketing promises reek of New Age hucksterism, but then again, the company is also wonderfully new and idealistic. And huge: Etsy has five million monthly visitors; the next closest competitor, ArtFire, has 500,000, according to comScore. "They would have to do something horrible to mess it up," says Maguire. "Etsy has lived through two different management styles—and it grew all the same. The community is there. It's not going anywhere."

At the end of January, I met Eileen Tepper, an actress who has been working at a law firm and selling $22 crocheted hats on Etsy to make ends meet. Tepper, an Etsy member since 2005, told me that most of the sellers she knows are disappointed by the company's latest social networking initiatives. "A lot of users are angry," she says. "They want Etsy to be a venue to sell things; they don't want it to be Facebook."

But as we talk, it becomes clear that whatever reservations she has about Etsy, they pale in comparison to her love for what Kalin has created. The previous month, Tepper made a collection of rainbow baby blankets. She thought they would be a huge hit, but, to her dismay, she didn't sell a single one during the holiday season.

That was, she says, until today, when she got an e-mail from Etsy informing her that a customer had finally ordered a blanket. "Everything sells," she says, sounding genuinely surprised by the turn of events. "I'm so happy." Out of tens of thousands of baby blankets on the site, her baby blanket had been chosen, and would be shipped from Tepper's home in the Bronx to a military base in North Carolina.

The enormity of that small act—an individual buying something she made with her own hands—never stops being amazing, even if the financial reward is small. "My little hobby feels so big," Tepper says. "You can't get that at Walmart."

Video Transcript

00:07 Andrew Maclean: Etsy.com is a site where a mix of crafters and artists sell their wares. In February, Inc Magazine held a photo shoot with nearly 150 of its eclectic mixture of users.

00:17 Jackie Andrews: I've been making all these for a long time.

00:21 Leslie Farber: I've always made things. I think since I came out of the womb, basically I've been making stuff out of stuff.

00:26 Mina Georgescu: I just love it, I love you know we make art out of a desire to be loved more, so you definitely feel the love on Etsy.

00:36 Andrews: Etsy!

00:36 Lana Tarpinian: Etsy!

00:37 Sherri Aikens: Etsy!

00:38 Maclean: Etsy tracks all sorts of users from full-time entrepreneurs to casual users just trying to make a little extra cash. It offers an outlet for anyone looking to sell home-made goods.

00:46 Tarpinian: I wanted to make some money, and I honestly thought it was going to be like something small like a little hobby.

00:52 Aikens: But as we grow, we keep on growing and growing and we have some wholesale accounts now and we have pretty steady stream of business.

01:02 Tarpinian: It has become a full time thing for me. I stopped working after I had my daughter and have been... Just whenever I have free time. I started as something small and it's become kind of very full time. So, it's just juggling parenthood and making pillows.

01:29 Farber: The jewelry I just started in the past year, actually when my husband lost his job, I thought up the jewelry and now has been really the most successful thing I've done on Etsy. It's actually in one year has become a significant amount of income for me.

01:42 Georgescu: And it's like it opened other door, all kinds of people contact you through Etsy so exposure is great. It's great, it's absolutely great. It's just that simple. Don't focus, don't focus on sales, don't focus on anything. Just focus on improving your art, your craft and let it improve you and everything's gonna be great.

02:08 Andrews: I wouldn't have known how to go about sorting websites and how would people find you? Where on Etsy, they search for what they want and find you.

02:15 Tarpinian: It's just everywhere around the world I'm selling. It was just pretty amazing. I get to meet other crafters and people promote you, you get promoted, you promote other people, so it's a very nice community.

02:30 Farber: And you get all sorts of communication from people that are interested in what you do and so on. So it is fun.

02:34 Aikens: Etsy is hands-down required for my way of life the way it is now, required for getting my name out there. By people having a big avenue and a group of people all leading in the same direction and people that support a handmade community has really grown my business.

02:51 Andrews: So I don't think I could have done this without Etsy, no.

Etsy Photo Shoot

An army of 400,000 crafters has made Etsy a hot start-up: profitable, well capitalized, growing. Now founder Rob Kalin is looking for ways to make them successful.